The Turkish currency weakened to 2.1195 by 0712 GMT against the dollar from 2.0975 late on Thursday, while bond yields rose.

Moody's said one of the two drivers prompting the change in outlook was increased pressure on the country's external financing position driven by "heightened political uncertainty and lower global liquidity."

The Turkish economy's Achilles' heel has long been its large current account deficit. According to data announced on Friday, the gap narrowed to $3.19 billion in February from $4.93 billion a month earlier, slightly above a Reuters poll forecast for a deficit of $3.05 billion.

Given a slowing near-term outlook for economic growth and a more uncertain policy environment, prospects for growth-enhancing structural reforms might be diminished, the rating agency added.

A corruption scandal that broke out in December has presented Prime Minister Tayyip Erdogan's government with its biggest during its 12 years in power.

But his AK Party won local elections on March 30, prompting a rally on markets that viewed the outcome as having decreased political uncertainty.

Erdogan's response to the corruption inquiry - purging thousands of officers from the police force and reassigning hundreds of prosecutors and judges - has raised concern in Western capitals, including Brussels, which fears the EU candidate nation is moving further away from European norms.

"Moody's expects these tensions in the political arena to persist until at least the second quarter of 2015, when parliamentary elections are due," the report said.

Noting the drop in the lira that followed the Moody's revision, Erkin Isik, strategist at TEB, wrote that recent easing of liquidity conditions by the central bank and the subsequent fall in interbank rates had also left the currency vulnerable.

Criticism by Erdogan last week of the central bank also caused concern for investors as they questioned political interference in the bank's policy.

Bank governor Erdem Basci hinted at interest rate cuts on Monday for the first time in a year, three days after Erdogan called for a rate cut.

"Given the financial turbulences that Turkey experienced in recent months as well as the apparent risks on the economic outlook, the Moody's decision is not surprising," analysts at Finansbank said in a research note.

"Furthermore, a downgrade seems also possible if the conditions leading to this decision exacerbate in the future."

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